Azernews.Az

BAKU – Fitch Ratings has revised Azerbaijan's rating outlook to positive from stable and affirmed its long-term foreign and local currency Issuer Default Ratings (IDR) at 'BBB-'.

The agency also affirmed Azerbaijan's short-term foreign currency IDR at 'F3' and Country Ceiling at 'BBB-', Azerbaijan’s Ministry of Finance said.

'BBB-' rating was assigned to Azerbaijan by Fitch on May 20, 2010.

"Generally prudent management of its energy revenue windfall is rapidly strengthening Azerbaijan's public and external finances, underpinning the sovereign rating," said Charles Seville, Director in Fitch's Sovereign ratings group. "The rating balances these improving credit strengths against structural weaknesses including high commodity dependence, obstacles to diversification of the economy, poor governance indicators and political risks. The Positive Outlook reflects Fitch's expectation of further improvement in the sovereign balance sheet."

Assets of the Azerbaijani state oil fund Sofaz, the sovereign wealth fund, increased by $7.9bn to $22.8bn (44% of GDP) at end-2010, and by a further $3bn in the first quarter of 2011. Sovereign net foreign assets, which also incorporate Azerbaijan’s central bank reserves, reached 49% of GDP, ahead of Kazakhstan ('BBB-'/Positive) and Russia ('BBB'/Positive) in GDP terms and second only to Thailand ('BBB'/Stable) in the 'BBB' category. Provided oil price and spending assumptions are correct, Azerbaijan is on course to become one of the strongest sovereign net external creditors among rated countries by end-2012, Fitch Ratings said.

These forecasts assume that part of the oil windfall will be spent. The 2011 budget will be revised upwards in June, financed by a higher transfer from Sofaz. Fitch still judges management of oil revenues to be prudent. The 2011 state budget currently in force targets a small 1.7% of GDP deficit at an oil price assumption of USD60/b, illustrating the resilience of the public finances to a potential oil price fall.

The agency also said the non-oil fiscal deficit has widened in recent years, but higher oil prices raise the level of annual transfers seen as sustainable under Azerbaijan's informal fiscal rule. The general government (including Sofaz) recorded a surplus of 14% of GDP in 2010, as oil revenue surged and spending growth was contained. Fitch forecasts a similar outturn in 2011.

Azerbaijan's net external creditor position was equivalent to 45% of GDP at end-2010, which is strong in comparison with peers. Fitch forecasts the current account surplus to reach 30% of GDP in 2011. The government is accumulating external assets while private sector external borrowing remains relatively limited. The exchange rate peg against the US dollar is backed by sizeable foreign currency reserves. Having defended the national currency, manat, during 2008-2009, the Azerbaijan Central Bank is resisting pressure for the currency to appreciate.

Real GDP growth slowed to 5% in 2010, and growth was driven mostly by the non-oil sector. With oil production forecast to be static in 2011 and 2012, growth will slow to 3%-4%. Structural reforms are needed to permit higher non-oil growth. These would also help quell inflation, which the Central Bank aims to keep below 10% in 2011, Fitch said.

It said the quality of the banking system is a continuing concern, although its small size (assets total 30% of GDP) reduces the risk to sovereign creditworthiness. The state-owned International Bank of Azerbaijan accounts for over 40% of banking assets but fails to meet the minimum capital adequacy requirement, weighing on the prudential indicators of the system as a whole. Based on individual banks' IFRS reporting, Fitch believes that the rate of non-performing loans is around 10% to 15%, considerably higher than the official 4.7% reported in 2010.

Overall, Fitch believes creditworthiness risks are tilted to the upside. Prudent management of energy resources, which allows the continued accumulation of sovereign assets and preserves macroeconomic stability, would be positive for the rating. Improving the business environment and financial sector, governance and economic diversification would be positive, although Fitch is not expecting rapid progress.

The agency said excessive spending and overheating of the economy could lead to "negative rating action". The ratings could also come under downward pressure in the event of a rise in either domestic or external political risk. Tensions surrounding the Armenian-occupied Nagorno-Karabakh region retain the potential to spill over into a costly conflict, although this is unlikely, Fitch concluded.

The Azerbaijani finance ministry said confirmation of the country's credit rating in the investment level indicated the credibility of the country from the international financial community, the availability of the necessary conditions for large Azerbaijani companies to issue securities to raise borrowing on international financial capital markets, as well as to simplify the conditions for Azerbaijan to enter the global capital markets.

First, the rating was assigned to Azerbaijan by Fitch Ratings in 2000. At present, the ratings have been assigned by Moody's Investors Service at the level of "Ba1" and Standard & Poors at 'BB +'.